Evening Market Update

Middle East Unrest and Disappointing Earnings Weigh

Stocks fell on Friday as sentiment took a hit from concerns surrounding unrest in Egypt, benefitting oil, while also boosting the dollar and Treasuries in a flight to safety. Meanwhile, US economic news of a weaker-than-expected expansion in 4Q GDP and upward revision to a reading on consumer sentiment had little impact on trading. Investors moved to the sidelines heading into the weekend given the uncertainty overseas, taking profits after stocks yesterday traded near two-year highs. Despite a strong consumer reading within the GDP report, consumer discretionary shares led to the downside, fueled by shares of Ford Motor Co and Amazon.com on their disappointing earnings reports, as well as concerns that rising commodity prices could eat into profits, with Ford being the latest in a string of companies this week to highlight rising costs. Elsewhere, Dow members Microsoft Corp issued soft Windows sales and Chevron Corp announced revenues short of forecasts. In other equity news, Sara Lee Corp announced the approval to split the company and Dow member Verizon Communications agreed to acquire Terremark Worldwide Inc for roughly $1.4 billion.

The Dow Jones Industrial Average declined 166 points (1.4%) to 11,824, the S&P 500 Index lost 23 points (1.8%) to 1,276, and the Nasdaq Composite plunged 68 points (2.5%) to 2,687. In moderately heavy volume, 1.4 billion shares were traded on the NYSE and 2.3 billion shares changed hands on the Nasdaq. Crude oil rose $3.70 to $89.34 per barrel, wholesale gasoline gained $0.08 to $2.49 per gallon, while the Bloomberg gold spot price rose $22.55 to $1,336.48 per ounce. Elsewhere, the Dollar Index-a comparison of the US dollar to six major world currencies-rose 0.6% to 78.15. For the week, including dividends, the DJIA fell 0.4%, the S&P 500 Index lost 0.5%, and the Nasdaq Composite declined 0.1%.

Dow member Microsoft Corp. (MSFT $28) reported fiscal 2Q EPS of $0.77, above the $0.68 consensus estimate of analysts surveyed by Reuters, with revenues rising 5% year-over-year (y/y) to $20.0 billion, exceeding the $19.2 billion Street forecast. The company said it is "enthusiastic" about the launch of its Kinect sensor, which boosted sales of its Xbox 360 game consoles. MSFT said that its Office 2010 is the fastest selling consumer version of Office in history, and business demand for its productivity and infrastructure products and cloud solutions is "strong." However, shares were under pressure as the company's Windows unit revenues, which fell 30% y/y, were lighter than analysts had expected, as PC sales grew only 3%.

Ford Motor Co. (F $16) announced 4Q EPS ex-items of $0.30, below the $0.49 that analysts had projected. According to CNBC’s Phil LeBeau, Ford’s CEO Alan Mulally said analysts underestimated lower volumes the company experienced during the quarter, structural costs, commodity increases, and profitability of its European unit. Revenues fell 6.6% y/y to $32.5 billion, but came in well above the $29.3 billion that analysts had projected. Shares fell by more than 10%.

Amazon.com Inc.  (AMZN $171) achieved 4Q earnings of $0.91 per share, two cents above the consensus estimate, as revenues rose 36% y/y $12.9 billion, compared to the $13.0 billion that was anticipated on the Street. The company said it eclipsed the $10 billion quarterly revenue mark for the first time, supported by sales of its Kindle e-readers, which led to Kindle books overtaking paperback books as the most popular format on Amazon.com. AMZN issued 1Q revenue guidance that was inline with analysts’ forecasts. AMZN shares fell.

Dow component Chevron Corp. (CVX $93) posted 4Q EPS of $2.64, above the $2.41 that analysts expected, with revenues rising 11.0% y/y to $54.0 billion, but falling short of the $56.0 billion consensus estimate. The energy firm said upstream-exploration and production-earnings rose 16.5% y/y on higher prices for crude oil and increased output, while its downstream-refining-results swung to a profit on improved margins. CVX traded lower.

In corporate news outside of the earnings front, Sara Lee Corp. (SLE $17) announced that its Board of Directors agreed in principle to divide the company into two separate, publicly-traded companies, expected to be completed in early 2012. SLE traded lower. Meanwhile, Terremark Worldwide Inc. (TMRK $19) rose over 30% after the managed information technology firm reached an agreement to be acquired by Dow member Verizon Communications (VZ $36) for $19.00 per share, or about $1.4 billion. VZ fell.

4Q GDP expands less than forecasted, while consumer sentiment revised higher

The first look at 4Q Gross Domestic Product, the broadest measure of economic output, showed a 3.2% quarter-over-quarter (q/q) annualized rate of growth, compared to the 3.5% increase expected by a survey of economists by Bloomberg, but personal consumption rose 4.4%, exceeding the 4.0% estimate. Measures of inflation remained contained, with the GDP Price Index rising 0.3%, well below the 1.6% gain that economists anticipated, and the core PCE Index, which excludes food and energy, increasing 0.4%, matching expectations.

Within the report the biggest contributions came from net trade, which added 3.4% as imports (a subtraction from growth) fell 13.6% q/q, while exports grew 8.5% q/q, and consumer spending, which added 3.0%, fueled by a 10.1% q/q gain in goods. The sharpest decline in inventories since 1988, per Bloomberg, subtracted 3.7% from growth, due to the combination of strong demand and tight inventory controls. This was most notable in the automotive sector, where output subtracted 0.3%, while sales of motor vehicles and parts added 0.9%. Other notable swings were a 0.3% contribution from clothing and footwear, and the federal government no longer added to growth as both defense and non-defense spending fell. Lastly, state and local government spending continued to have little impact on the number, subtracting a mere 0.1%.

The health of state and local governments has received a lot of media attention recently, with some predicting a collapse of municipal bonds. While state and local budget troubles may be the worst in memory across the United States, budgetary stress is one thing - but actual default is another. Unlike the US government, state and local governments are restricted from running budget deficits or funding those deficits with long-term debt. Meanwhile, debt service, or payments on bonds, is a relatively small expense for most state and local governments, while unfunded pension liabilities need to be addressed.

Additionally, the  University of Michigan's Consumer Sentiment Index was revised higher for January, as the index increased from 72.7 in the preliminary report to 74.2, and following the 74.5 that was posted in December-which was the highest level since June. Economists expected the index to be revised to 73.3. The upward revision came as the economic outlook and current conditions components of the report were both adjusted to the upside. Meanwhile, both the 1-year and 5-year inflation expectations components were revised higher to 3.4% and 2.9%, respectively.

In other economic news, the Employment Cost Index rose 0.4%, below the 0.5% that economists had expected, after rising by the same amount in 3Q.

Treasuries rose with the rise in uncertainty, the yield on the two-year note was down 3 bps at 0.55%, the yield on the 10-year note lost 6 bps to 3.33%, and the 30-year bond yield declined 3 bps to 4.54%.

UK consumer confidence falls and Japan economics mixed

Stocks in the UK moved solidly lower to pace the decline across the pond after a report showed consumer confidence fell the most since 1994, per Bloomberg, to -29 in January, from -21 in December, and compared to the dip to -22 that economists had forecasted. A higher value-added tax (VAT), a sales tax which was raised from 17.5% to 20% earlier this month to try to combat a ballooning deficit, was noted as a main reason for the decline in sentiment. The report follows the disappointing UK 4Q GDP data that was reported earlier this week, dampening the outlook for economic prosperity in the nation, exacerbated by inflation concerns, with price growth exceeding its 2% target rate for more than a year, per Bloomberg. In other economic news, Italian consumer confidence deteriorated more than expected, while Sweden's retail sales unexpectedly dropped.

The UK FTSE 100 Index and France's CAC-40 Index declined 1.4%, Germany's DAX Index decreased 0.7%, Italy's FTSE MIB Index dropped 1.3%, and Sweden's OMX Stockholm 30 Index closed down 1.2%.

Disappointing data proves to be too much for the bulls to overcome

Softer-than-expected GDP growth, a credit downgrade of Japan by Standard & Poor's, surprising 4Q economic contraction out of the UK, and relatively disappointing earnings reports out of several Dow members tilted the week's action slightly in favor of the bears. Although US stocks finished on a sour note, improved sentiment toward the struggling housing sector and the psyche of the consumer provided some reason for optimism. New home sales surged over 17% month-over-month (m/m) in December, complimenting last week's jump of 12% in existing home sales, while pending home sales also came in stronger than anticipated. Meanwhile, January reports on consumer sentiment from the Conference Board and the University of Michigan accompanied stronger-than-anticipated personal consumption in Friday’s GDP report to boost optimism the consumer-the biggest contributor to the US economy-may be poised to contribute further to the economic recovery.
  State of employment market in view

Next week brings some key reports on the health of the economy in January, starting with Tuesday's release of the ISM Manufacturing Index, forecasted to increase to 58.0 from 57.0 in December, while the ISM Non-Manufacturing Index, to be released on Thursday, is anticipated to tick down slightly to 57.0 from 57.1 in December. A reading of 50 separates expansion from contraction. Within the reports, traders will be keying in on the employment and pricing components.

Other measures of employment set to be released include the ADP Employment Change and initial jobless claims, as well as the most comprehensive reading on jobs in the form of Friday’s nonfarm payrolls, expected to grow 136,000 in January after posting two months of disappointing figures, including a 103,000 gain in December. The unemployment rate is estimated to increase slightly to 9.5% after dropping to 9.4% in December.

Progress on the job front has been disappointingly slow, due to the combination of dramatic losses on payrolls, high uncertainty, and potential secular changes within certain sectors of the economy, namely construction and financial services. The Fed has noted the "disappointingly slow" progress and projected five-to-six year time to reach their goal of maximum employment as a contributing factor to pursue their asset purchase program, commonly called quantitative easing, or QE2. As such, Fed Chief Ben Bernanke’s press conference and Q&A session on Thursday at 1 p.m. EST will be closely monitored.

Other releases on the US economic calendar include personal income and spending, the Chicago Purchasing Manager survey of manufacturing and services sectors, vehicle sales, MBA Mortgage Applications, unit labor costs and nonfarm productivity, construction spending, and factory orders.

International releases will include, Canada's November GDP, employment and the Ivey Purchasing Managers Index, Mexico's consumer confidence, and Brazil's manufacturing PMI and industrial production. In Europe, releases include euro-zone CPI and PPI, manufacturing and service PMI reports from the euro-zone and the UK, home prices in the UK, and German employment and retail sales. Asia/Pacific reports will include Japan's industrial and vehicle production, housing starts, construction orders, and vehicle sales, Australia's home prices, new home sales, and building approvals, China's manufacturing and services PMIs, and South Korea's industrial production and leading index. In central bank action, the European Central Bank and Reserve Bank of Australia meet to discuss monetary policy.